01/20/2005: "Leasing vs. Buying: What You Need To Know"

One of the most interesting parts of the automotive sales course I took back in early December was learning more about leasing a vehicle instead of buying (financing) it. Leasing is, at best, a generally poorly understood financial mechanism. I myself knew only that it offered lower monthly payments, and that the leasing institution would be the legal owner of the car. The latter part, which a bit confusing, was secondary to the lower monthly payments in my eyes.

Now that I've learned a lot more about leasing, I can sum up getting a new car in a nutshell: it is never better to buy than it is to lease. I now know very concretely why leasing is the way to go with new vehicles. I'm here now to spell it out for the benefit of everyone else.

First, let's look at a specific car so we're not just dealing with theory but actual numbers from a real car. One finance-vs.-lease comparision we looked at during the course I took was the new Pontiac G6. All figures were pulled straight from a Pontaic newspaper ad (and the huge amount of fine print that went with it). This particular vehicle was listing at $26487. We assumed a $1500 down payment, and the payments were $558.42 on a 60 month financing plan, or $379.50 on a 48 month lease, including taxes. Different down payments, trade-in allowances, finance and lease rates will obviously change the payments, but the comparision will hold true in all but the most extreme cases. Below is a table showing a side-by-side comparision of financing versus leasing this vehicle.

So now, the benefits of leasing over financing:

1) Borrow Less. With $1500 down, the balance owing on the vehicle is $24987. If you finance, you are taxed (GST and PST, 15% here in Ontario) on that full amount, adding a whopping $3973.05 to your total, right off the bat. This is not value added to the vehicle that you can recover, it's tax, it's money pocketed by the government immediately. Bye-bye. With leasing, only the down payment is taxed, a paltry $225 on your $1500 down payment. So, if you finance, you borrow $28960.05 (balance plus tax), versus only $25212 if you lease. Advantage: leasing.

2) Don't Finance The Tax. If you finance, you not only have to pay a whack of tax up front, but you get the secondary pleasure of financing that tax. So, for the next 60 months you are paying interest not only on the oustanding principle of your vehicle, but you're paying interest on your tax too. That sucks, frankly. With a lease, you pay tax on your monthly payment only. No paying interest on the tax, just lease payment plus tax. Pay the tax as you go. Advantage: leasing.

3) Cashflow. As I mentioned, the finance payment is just under $560 a month, and the lease payment is not quite $380. Right there you have a difference of nearly $180 per month. What could you do with an extra $180 every month? Quite a lot. Over the course of the entire 48 month lease, that adds up to a total cashflow of $8558.64 that you kept in your pocket. A financing plan will have cost you $28304.64 up to this point (including your original down payment), whereas the lease has set you back only $19716. Advantage: leasing.

4) Options. At the end of 48 months, a lease gives you options. In this case, you can pay $10400 (plus tax) and purchase the vehicle outright. If you are fortunate, the cost of the vehicle buy-out is less than its market value, in which case you can turn around and sell it for a tidy profit. And of course, if you decide that it's been a good ride but you want something else, you can simply turn your vehicle in, and be done with it. After 48 months of financing, you still have 12 months of payments owing for a total of $6701.16. Maybe your car is worth that, maybe not. Either way, you have no choice but to keep paying for the next 12 months. Advantage: leasing.

5) Total Cost. If you financed your Pontiac G6, you've paid 60 payments of $558.43, plus your original down payment of $1500 for a total cost of $35005.80. If, on the other hand, you leased your G6 for the first 48 months and then purchased it, you've paid 48 payments of $379.50, your original down payment of $1500, the tax on that which came to $225, and then the buy-out of $10400 plus tax ($1560) for a total of $31676. Yes, leasing first and then buying will save you nearly $3500 on the total cost of the vehicle. Advantage: leasing.

6) Gap Protection. Say that you drive your new car for 2 years and then hit some black ice and total your beauty. Chances are that the insurance will not cover the full cost of the vehicle at that point - this is called a gap. With a finance agreement, you are on the hook for this difference. On this particular vehicle, the difference might only be a few thousand dollars. That's still a lot, but imagine if it was a $50000 truck you just wrecked. The gap could easily get up to $10000, which could seriously hurt you financially. If you leased, you're in luck, as gap insurance is included with every lease in Canada. So no matter what the vehicle, what the difference between what the replacement cost and what insurance will give you, you simply walk away and start looking for another new car. Advantage: leasing.

7) Grow Your Cash. Now if you're astoundingly good at saving money and happen to have $28735.05 stuffed in your mattress, you might think that it's a good idea to simply walk down to the dealership, plunk down your wad of cash, and drive off in a new car. Well, you'd be wrong. If you purchase your vehicle outright, you pay the tax on the whole amount. No matter what happens, you will never get that cash back, even if you sold the car privately later that day. Additionally, you would then have invested all your cash in an asset that will depreciate extremely quickly. Now, if you take that money to the bank, you earn interest on that cash. From that point, you can lease the vehicle, allow your cash to grow, and not only pay less for your vehicle (as we've already seen), but earned some cash from leaving your money in an interest-earning account (or GIC, term deposit, RSP, whatever). Advantage: leasing.

Having said all of that, there are still people that will not be comfortable leasing. Some will say that they don't want someone else owning the car while they drive it. Others will say that they drive too much for a lease to make sense, or don't take good enough car of their vehicles. Well, if you drive a lot, your car won't be worth any more if you own it than if you lease it. Ditto with taking care of your vehicle. A high-mileage vehicle in poor condition may mean pentalties on your lease - but only if the vehicle is returned to the leasing company. Sell it off, buy it out, trade it in - any of those actions will allow you to sidestep the lease pentalties. Admittedly, you won't have to worry about that if you own the car, but at the same time it means your car has depreciated even more than it would have otherwise.

Great article. I've been waiting for an insider's perspective about your auto sales experience.

Few months back we decided to lease a vehicle for the first time. I had to research many of your points the hard way and do my own number crunching. The numbers weren't quite as advantageous as your G6 example. But I can tell you that it wasn't worst to lease over purchase.

Only thing that bothered me a bit was that if I do decide to purchase the vehicle I will need to get a loan. And I will of course pay interest on that loan. And at the end of this I would end up paying more than if I had purchased originally.

on Friday, January 21st, mr.ska said

Entirely depends on what kind of loan you can get. With a vehicle coming off lease, it should be new enough to qualify for a decent auto loan rate.

I somehow doubt you'd end up paying more, but you're the one with the figures in front of you. What if you put away the difference in a finance payment versus a lease payment each month? By the time the lease is up, you'll almost be able to pay cash for the buy-out.

I think it was a difference of about $150/month. I'd have to dig up the paperwork to be sure. Over 4 years that's only $7200 (I think)The residual value is double that. And you have to pay tax on the residual I believe.I still think leasing was worth our while.

on Friday, January 21st, mr.ska said

Yes, you pay tax on the buy-out (which is the residual). A residual of $14k and a difference in finance vs. lease of only $150/mo? I gotta ask - what did you get? My guess would be something Japanese that keeps its value well...

I disagree with this statement: "it is never better to buy than it is to lease".

* if it's "never" better, why is leasing so complicated and has so much fine print? What's being hidden in that fine print?

* The outlay after lease term can easily be higher than the 4.5K difference in your chart. All you have to do is pick a dealership who feels their cars depreciates slower than market value for your claim to be shown false. Ford is an excellent example of this. Many dealerships would naturally go this route.

* if you buy a vehicle that's used, most of the depreciation has been knocked off, and the monthly payments would slightly to dramatically favour the financed used vehicle. I would rather finance used than lease new, because at least I'd still have wheels at the end of it.

* 'money experts' who are much smarter at this than either you or I are *still* debating whether leasing is better or not. Most seem to say that financing is. Have you spent any time seeing why they feel that way? If you have, were you reminding yourself that they are smarter at money management than us average people?

* your course is going to teach you a set of facts that will help you enthusiastically sell cars the way it makes the most profit for your dealership, not the best savings for the customer.

* why would a dealership prefer to lease vehicles over financing them, even when there's way more paperwork involved, if the end result is to save the customer money? That does not make good business sense.

I can't give you a set of numbers that show you how financing looks better, because I'm not a numbers guy, but I also don't believe you can address these points that I raised here to my satisfaction. Sorry bud, but I'm still not convinced.

on Monday, January 24th, mr.ska said

You're right... it's not "never" better. However, saying it's "almost never" better allows too much lattitude in my opinion. I personally found one example where leasing was more expensive, but I still would have chosen that option for other reasons.

You've got a lot of questions, which I won't answer here. Perhaps I'll do a follow-up article instead.